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Old 01-29-2008, 10:59 PM   #21
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I think Schwab ranking system is primarily momentum driven. I am always amazed at the number of times M* says something is a 5 * stocks (value investing) and Schwab says it is a D or F. Of course the M* star rating like the Value Line rating is of only marginal value. Schwab claims their rating system outperforms all the other brokers.
Who knows if this is true.

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Old 01-30-2008, 12:38 AM   #22
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Interesting thread. I see a lot of people trying to confirm their own biases.

Have we even defined momentum yet? I haven't really looked into it, but my impression is that the excess returns from momentum are from movements of individual stocks, both going up and down. It's not about some of the strawman arguments made here.

I believe it's academically accepted that traders can capture excess returns from momentum strategies. The question is whether those returns exceed the trading costs.

Here's a random paper I googled:

SSRN-Are Momentum Profits Robust to Trading Costs? by Robert Korajczyk, Ronnie Sadka


In summary, we find that, when price impact is ignored, the 11/1/3 and 5/1/6 strategies earn significant abnormal returns relative to the Fama and French (1993)

three-factor asset pricing model. The strategies remain profitable when transaction costs are proportional costs equal to the effective and quoted spreads.

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Old 01-30-2008, 07:01 AM   #23
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... Everyone loves to talk about indexing, but a cap weighted index in essence is a momentum strategy. As the price of a stock goes up you buy more. Pure momentum, if financials increase from 15 to 25% of the value of the S&P 500 then you buy more financials. When financials break then you ride it all the way down.
What you are saying is true if you are adding to your index portfolio, but if you are just holding it there is no adjusting (buying or selling) going on within the index. Cap weighting takes care of itself.

I would think of a momentum strategy as one where you would change investments as momentum changes in the components, even if you are holding the same dollar amount. In that regard, rebalancing a portfolio when it gets X% out of whack qualifies as a modest form of momentum investing?

Taking the other side of that, when you sell, it's a bit like you are rebalancing - what you sell has a higher weighting of previous winners.

But I don't think of any of those as 'active' enough to meet what most people would define as 'momentum investing'.

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Old 01-30-2008, 07:11 AM   #24
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I believe it's academically accepted that traders can capture excess returns from momentum strategies. The question is whether those returns exceed the trading costs.
Not only that, but the strategies are sometimes hard to duplicate exactly, making real comparisons difficult (would another investor pick those exact stocks and buy/sell at the exact time?). And if the advantage is marginal, it seems natural to question whether it wouldn't become marginally negative if conditions changed ever so slightly.

The FUNDX approach is easily replicated, just buy the fund. But I don't see any clear advantage to that particular form of momentum investing - underperformed in 6 out of 8 time periods measured by the Yahoo finance page.

Any 'strategy' has a tough row to hoe. If it can't be back tested to 1871 and if it can't be easily replicated, and trading costs included, any marginal benefit is easily dismissed. I don't think that means people are being closed minded, it's the just the nature of the beast. People don't want to throw their nest egg at what might be a 'fad'. If the strategy showed a risk adjusted 1.5X advantage over a few bull and bear markets, I think it would get a lot of interest.

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Old 01-30-2008, 07:26 AM   #25
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W2r,

Thanks for all the quotes!
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Old 01-30-2008, 07:36 AM   #26
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Well, the mutual fund that they put together on this has underperformed it's index (at least the one that Yahoo Finance chose) in 6 out of 8 of the time periods that they report.

How will that help me?

FUNDX: Performance for FUND X UPGRADER FUND - Yahoo! Finance

-ERD50
Yahoo grades them against large blend international. I don't know how fair a comparison that is (literally don't know - fundx upgrader currently holds 55 funds! I saw a bunch of names that clearly said international, others domestic, others I can't place from the name) - does fundx change allocations in their asset classes, or only in the funds within those asset classes? I couldn't find it on their website.
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Old 01-30-2008, 07:37 AM   #27
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I tend to swing the way ha does (don't wanna own it if I can't understand and get comfy with the business), but this is an interesting topis nonetheless. I get the feeling that the serious academic literature on the subject would quickly be over my head on the statistics end of things.
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Old 01-30-2008, 07:47 AM   #28
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W2r,

Thanks for all the quotes!
You're welcome - - glad you liked them!

I just hope that by limiting the quotes to a sentence here, a brief paragraph there, and by giving the citations and page numbers, my attributions to the sources were sufficient to meet any definition of limited use. I have read the same thing in every book I have, but these quotes were from the first four that I happened to have at hand. I make no secret of the fact that I am still learning so this gives some sources of what I feel I am learning.
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Old 01-30-2008, 07:51 AM   #29
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I tend to swing the way ha does (don't wanna own it if I can't understand and get comfy with the business), but this is an interesting topis nonetheless. I get the feeling that the serious academic literature on the subject would quickly be over my head on the statistics end of things.
I seriously doubt it! You don't impress me as being mathematically illiterate, though it might take some time for any of us to delve deeply into the relevant statistical analyses.

I agree with Ha too, especially since so many sources vehemently assert that persistence can be a really, really bad strategy to follow. It's enough to make a beginning investor sit up and take notice.
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Old 01-30-2008, 08:09 AM   #30
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I seriously doubt it! You don't impress me as being mathematically illiterate,
Appearances can be deceiving. I usually have to call DW when I need to do algebra. Don't ask about calculus.

You can do most any amount of accounting with 5th grade math. Finance might require high school math for most of it until you get to the seriously quantitative stuff or econometrics. I was recruited for a finance PhD, but declined when I realized how many years I would spend taking math and stats classes.
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Old 01-30-2008, 08:17 AM   #31
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Appearances can be deceiving. I usually have to call DW when I need to do algebra. Don't ask about calculus.

You can do most any amount of accounting with 5th grade math. Finance might require high school math for most of it until you get to the seriously quantitative stuff or econometrics. I was recruited for a finance PhD, but declined when I realized how many years I would spend taking math and stats classes.
Gee - - I admit that I am amazed.

Somebody should have let you in on the secret that math is fun, especially advanced math. Math gets a bad rap due to the tedious rote memorization of multiplication tables and such in elementary school, I guess.
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Old 01-30-2008, 09:14 AM   #32
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I agree with Ha too, especially since so many sources vehemently assert that persistence can be a really, really bad strategy to follow. It's enough to make a beginning investor sit up and take notice.
As Twaddle said I think it goes back to your definition of momentum/persistance. My first pass at a definition is:

Options:

1. Buy and hold with a fixed allocation, rebalance, etc. - Standard type of approach for most on the board

2. Cramer - hyperactive trading high costs, taxes, etc. Chase returns, buy high, sell low, etc. Works for market makers and hedge fund types but probably not wise for the average joe.

3. Momentum investing - fixed allocation and rebalancing, but instead of holding funds forever you rotate them based upon who is performing best at the present time.

Option 2 is what everyone says you shouldn't do.

Option 3 is what I try to follow. Some further comments:

Option 1 says that you can never know what investment will perform best in the future. Option 3 says you can - funds that have momentum maintain that momentum (persist) into the short term future.

Active managers have a hard time changing styles. A deep value manager will underperform during the late 90's and overperform in the early 00's. If you hold for the whole time you will do OK, but why not sell him in the 90's and buy him in the 00's depending on how his relative performance is doing.

How you determine momentum is an open question. My method ignores 1 mo results because that greatly increase the churn, but No Load X has been successful using the 1 mo momentum results.

I would not do this with individual stocks -too much specific risk - the market could gap down, etc., but it seems to work well with mutual funds.

The strategy underperforms when there is no clear trend. This tends to churn when the market is trying to decide where it is going.

The strategy outperforms when there is a clear trend and it continues. For ex., the outperformance of small cap value was huge in the 00's and continued for many years. I got into RS partners after a large increase, but rode it for another 120% gain.

Part of the outperformance seems to be from allocation creep. For example the best performing large cap mutual fund managers moved into the mid cap space in the 00's. Therefore I was really more heavily allocated towards mid/small cap than planned.

Academic results are mixed, but tend to say that any advantage is eaten by taxes and costs. IRA eliminates the tax issue, but transaction costs can indeed be higher.

I will try to post more thoughts, but encourage you to respond.
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Old 01-30-2008, 09:18 AM   #33
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What you are saying is true if you are adding to your index portfolio, but if you are just holding it there is no adjusting (buying or selling) going on within the index. Cap weighting takes care of itself.
I disagree with this. Even if you just hold, the manager of the index must buy more of the increasing stocks in order to track the index. Think of homebuilders. In 2000 the S&P had a low value for homebuilders but in 2005 it had a very high value for homebuilders. Even if you added no money your exposure to homebuilders increased dramatically. You are now experiencing a large reduction in homebuilders.
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Old 01-30-2008, 09:22 AM   #34
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Appearances can be deceiving. I usually have to call DW when I need to do algebra. Don't ask about calculus.

You can do most any amount of accounting with 5th grade math. Finance might require high school math for most of it until you get to the seriously quantitative stuff or econometrics. I was recruited for a finance PhD, but declined when I realized how many years I would spend taking math and stats classes.
I resemble that I thought about a PHD program also, but got bored with Masters level statistics and don't even talk about linear algebra :confused:

At least Excel does most of the heavy lifting these days
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Old 01-30-2008, 09:27 AM   #35
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At least Excel does most of the heavy lifting these days
And you should see what a Bloomberg terminal can do.
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Old 01-30-2008, 11:35 AM   #36
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I disagree with this. Even if you just hold, the manager of the index must buy more of the increasing stocks in order to track the index.
I don't think so. In fact, I'm pretty sure that is why cap-weighted funds are offered - it takes no action on the 'managers' part to maintain the weighting.

Take a simple example of an imaginary index fund with two equal priced stocks, A and B. The fund owns 100 shares of each at $100/share, so $10,000 of each stock. The fund is worth $20,000. Each stock represents 50% of the cap weighting of the fund.

Now, stock A doubles in price. The fund is now worth $30,000; $20,000 of A, $10,000 of B. So, stock A represents 2/3 of the fund, which is what it's cap weighting indicates it should, and the 'manager' did no buying or selling to achieve this.

Now, if $30,000 of 'new money' came into the fund, the manager would buy 100 shares of each again, and the cap weighting would still be in balance. No 'brain' required of the manager. True, he did buy $20,000 of stock A, and $10,000 of stock B.

A Fund's public performance is not measured by any weighting of how much money they managed, it is a straight calculation of beginning and ending NAV and dividends. If they rose 5% over 11 months, then got an infusion of deposits on day 1 of the 12th month which doubled their size, and then rose 10% in that last month, their performance would be 15.5% (1.05*1.1). It would not be weighted towards that 10% in the last month, just beginning NAV and ending NAV. Right?

Also....

Good post on the options of the momentum players. One thing that sometimes gets missed when comparing performance is the risk-adjusted performance. I'd be interested to see anything that shows a momentum fund can beat the index with less risk.

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Old 01-30-2008, 12:13 PM   #37
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DJRR,

Thanks for the post on momentum investing! So AA is fixed and only the funds within are varied.
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Old 01-30-2008, 02:04 PM   #38
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The strategy underperforms when there is no clear trend. This tends to churn when the market is trying to decide where it is going.

The strategy outperforms when there is a clear trend and it continues. For ex., the outperformance of small cap value was huge in the 00's and continued for many years. I got into RS partners after a large increase, but rode it for another 120% gain.
Thinking about this some more... wouldn't the strategy also underperform when there is a clear down trend?
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Old 01-30-2008, 02:45 PM   #39
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DJRR,

Thanks for the post on momentum investing! So AA is fixed and only the funds within are varied.
The version I use and find value in at least. Momentum per se is probably more known as using a relative strength forumula as per Investors Business Daily.

The method I use is a follows:

1. Pick your split of stock, cash and bonds - I currently use 100% stock

2. Split your stock portion into 5 buckets

1. Large Cap Value
2. Large Cap Growth
3. Small Cap Value
4. Small Cap Growth
5. International

These %'s are fixed for the year and you can rebalance as you desire. I rebalance at least once per year, and since I am selling at various times during the year as I replace funds I take that opportunity to rebalance.

Then within each category I select the current recommended funds based on their momentum rankings. These are kept until they fall below the top quartile for all funds in that category. If they fall out they are sold and replaced with new funds.

I personalize it by only using 10 funds - 2 in each category and by choosing the smallest funds by asset size because these usually exhibit greater outperformance.

That is what I do in a nutshell.
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Old 01-30-2008, 02:54 PM   #40
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Thanks for the further description!

I called fundx - they do NOT use AA and rebalancing; they use their "Class 1, 2, 3, 4, 5" system, and while they have base levels of each category they do allow the fund classification percentages to vary.

Therefore, they can and do vary their AA. Given this, it's not appropriate to rate them against large blend international for the past five years (unless the bulk of the fund has been in LBI for that period of time. Determining that is more work than I want to do at this point).

That brings up another point - how do you properly rate a fund that varies its AA? Something I've wondered from time to time...

The fundx upgrader fund's objective is to provide similar volatility to and better returns than large US stocks.
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